Philip Morris’ 2014 In Review Part 1: Reduced Risk Products

+17.98%
Upside
91.62
Market
108
Trefis
PM: Philip Morris logo
PM
Philip Morris

Philip Morris (NYSE:PM) stands to gain in a big way from the commercialization of e-cigarettes. This is because the market size projections for the category are big, and the market share forecasts for Philip Morris in this category are also favorable. These market share gains are expected to be facilitated by the development of own brands as well as the licensing of brands from the Altria Group (NYSE:MO). In this article we take a look at the major events that shaped Philip Morris strategy in the e-cigarette category in 2014.

We have a price estimate for Philip Morris’ stock price of around $80 compared to a market price of around $83.

Relevant Articles
  1. Should You Pick Philip Morris Stock After 7% Fall This Year And Q4 Miss?
  2. Will Philip Morris Stock Rebound After A 10% Fall This Year?
  3. After 8% Drop This Year, Pricing Growth To Bolster Philip Morris’ Q3
  4. Pricing Gains To Drive Philip Morris’ Q2?
  5. Does Philip Morris Stock Have Upside Potential To Its Pre-Inflation Peak?
  6. Here’s What To Expect From Philip Morris’ Q1

See Our Complete Analysis For Philip Morris International

Philip Morris In The E-Cigarette Market

One of the most important developments in Philip Morris’ business model in recent years has been the increasing focus placed on reduced risk products. The most prominent of these are e-cigarettes. An earlier article published on our website states that this product category was identified by Philip Morris as its “greatest growth opportunity” (See Philip Morris In The Electronic Cigarettes Industry). The company expects the market for these products to grow to around 30-50 billion units, around 3-5% of the total conventional cigarette market, over the next few years (See Philip Morris On Reduced Risk Products).

Industry analysts are also bullish on this category. By 2047, Bloomberg expects electronic cigarette sales to overtake those of their traditional counterpart. In the shorter term, 2017 sales of e-cigarettes could reach $10 billion, according to Bonnie Herzog of Wells Fargo (See Potential In The E-Cigarettes Market). In a move that reflects this bullishness, Philip Morris has invested $500 million in the construction of a large scale manufacturing facility in Italy that will manufacture only reduced-risk products (See Our Q3 Earnings Review For Philip Morris).

Philip Morris’ initial foray into the e-cigarette category came in the form of a partnership with the Altria Group. These two companies share the iconic cigarette brand Marlboro. Altria markets it in the U.S., while Philip Morris markets it in the rest of the world.  The partnership with Altria for the development and cross-licensing of reduced risk products represents one aspect of Philip Morris’ two-pronged strategy in this category. The other way in which it seeks to augment its product portfolio in this segment is through in-house development.

Opportunities From Marketing Brands Developed By Altria

The partnership with Altria gives Philip Morris access to two promising e-cigarette brands, Mark-Ten and Green Smoke. We expect Altria’s share in the U.S. e-cigarette market to reach 15% by 2021. Using Altria’s products along with its own can help Philip Morris gain a similar market share in the rest of the world. MarkTen gained about a 48% share of the retail cartridge market in Arizona in just over seven weeks after introduction. Since then, it has been introduced in over 60,000 stores in the Western U.S. as the first phase of  a national roll-out. [1]

During the first quarter of this year, Altria also completed the acquisition of Green Smoke Inc.’s e-cigarette business for $110 million. Founded in 2008, Green Smoke sells e-cigarettes in the U.S. and Israel. In 2013, the company’s total e-cigarette sales stood at about $40 million, which implies a market share of over 2.5%. This brand could also be a useful addition to Philip Morris’ portfolio.

In-House Brand

Philip Morris has launched its heat-not-burn e-cigarette IQOS in two cities – Nagoya, Japan and Milan, Italy. IQOS does not burn tobacco to release nicotine, but heats a capsule filled with nicotine solution to release nicotine-containing vapors. The company is holding off on any claims of health benefits vis-a-vis tobacco based cigarettes, pending results from detailed scientific tests.

IQOS is being sold through 1000 retail outlets including one flagship store in Nagoya, which is Japan’s fourth largest city. They have been priced to maintain parity with regular Marlboro cigarettes. Initial consumer reaction has been reported by the company to have exceeded expectations. There are favorable trends on the regulatory side as well, with the Japanese government deciding to tax these products at a lower rate than tobacco-based cigarettes. Price parity with traditional cigarettes was maintained during the launch of IQOS in Milan. Although these are slated to be taxed at the same rate as traditional cigarettes, the company has expressed hope that the Italian Government will reconsider this decision going forward. After national roll-outs of these products in Japan and Italy in 2015, they will be launched in other markets in 2016. (See Our Weekly Tobacco Notes)

View Interactive Institutional Research (Powered by Trefis):

Global Large CapU.S. Mid & Small CapEuropean Large & Mid CapMore Trefis Research

Notes:
  1. Mark-Ten National Roll-Out []